Cascade: No. 75, Fall 2010

AFC Expands Its Energy-Efficiency Lending

By Keith Rolland, Community Development Advisor

AFC First Financial Corporation, a consumer finance lender in Allentown, PA, is increasing the pace of its energy-efficiency lending to homeowners in 24 states, including Pennsylvania. To provide AFC with liquidity, the Pennsylvania Treasury Department purchased $36.8 million of AFC Pennsylvania loans and is exploring alternatives to sell $25 million in loans outstanding.

AFC underwrites and originates unsecured fixed-rate loans of $1,000 to $20,000 for energy-efficiency improvements and bases its loan decisions largely on FICO credit scores, debt-to-income ratios, and employment verification. AFC relies on over 2,500 AFC-approved contractors, including 1,600 in Pennsylvania, to market energy loans to homeowners and provide energy products and services.

Contractors set up a “blower door test” at an exterior door of a house to determine air-tightness. The blower door has a fan that pulls air out of the house, lowering the air pressure inside the house. The higher outside air pressure flows into the house through all unsealed cracks and openings and is identified by an infrared camera or other means.

This year, AFC opened a training center for green jobs training and contractor education in cooperation with Lehigh Carbon Community College. AFC has trained 500 contractors to Building Performance Institute standards and is adding training in geothermal and solar installation.

AFC is co-creator and administrator of programs in three states: Pennsylvania’s Keystone Home Energy Loan Program (HELP), Connecticut’s Solar Lease1 and Energy Efficiency Fund Residential Financing Programs, and the new Kentucky Home Performance Financing Program. In 21 other states, it makes energy-efficiency loans through programs operated by 15 manufacturers and four utilities.2 These are 10-year unsecured market-rate loans that AFC sells to Fannie Mae. AFC is one of three lenders authorized to sell energy loans to Fannie Mae.

Since 1999, AFC has closed over 17,000 energy loans totaling more than $120 million.3 It currently services 6,200 energy loans with balances of $35 million. As of June 30, 2010, its cumulative default rate was 1.1 percent, and its 90-day delinquency rate was 1.4 percent, AFC said.

Peter J. Krajsa, AFC’s chairman and CEO, said that AFC is making new loans monthly of about $3 million for improvements in about 450 units and that its total dollars lent in May 2010 was 185 percent greater than the amount a year earlier. According to Krajsa, approximately 70 percent of the dollar amount of loans closed by AFC were made to homeowners outside Pennsylvania.

In a recent interview, Krajsa said that “our biggest challenge nationally is finding sustainable capital sources for new loans and getting more contractors.” He said that a secondary market is needed to purchase energy-efficiency loans that are being made by an increasing number of state agencies and utilities.4

Reactive or Proactive?

An important question in energy-efficiency lending is whether energy-efficiency improvements are reactive or proactive.

Peter J. Krajsa, AFC First Financial’s chairman and CEO, said that reactive energy improvements — those that must be made, for example, to replace a broken furnace — constitute 90 percent of the energy-efficiency market. In contrast, proactive improvements require more customer thought, engagement, and foresight; are more comprehensive and are made after an energy audit; and include “whole house” air-sealing and insulation, higher-efficiency heating and cooling, and structural repairs.

Krajsa said that more consumers will make high-efficiency improvements if they have an affordable fixed-rate monthly payment that fits their budget and is offset by energy savings.

He said that successful energy-efficiency lending programs address consumers who want to make both reactive and proactive repairs; keep it simple for both the contractors and the consumers; provide lower-interest financing for high-efficiency improvements rather than for lower-efficiency measures; and measure energy savings resulting from the improvements.

Krajsa observed, “Reactive repairs of $3,000 to $15,000 are too large for a credit card and too small for a home equity loan. Proactive improvements have historically been financed with home equity loans. But in today’s economy, banks want lower loan-to-value ratios for new loans, and customers have seen a rapid erosion of their home equity. Some energy-efficiency programs are addressing this dilemma by providing below-market interest rates to attract consumers with equity who make proactive energy improvements.”

–Keith L. Rolland

History of AFC

Krajsa’s parents started AFC in 1947 as an unsecured consumer finance lender licensed by the Pennsylvania Department of Banking (PDOB). AFC started making home equity loans in 1980 and FHA Title 1 home improvement loans in Pennsylvania in 1995. In 1999, when AFC became one of three Fannie Mae–approved energy lenders, it began focusing exclusively on energy-related consumer loans.

AFC makes loans in Pennsylvania under a mortgage discount company license issued by the PDOB. It makes loans in other states under exemptions from state licensing or through relationships with state or national banks. The loans are then sold to Fannie Mae.

AFC’s 25-member staff, which includes several former bank lenders, is mostly engaged in lending and rebate processing.

AFC’s Role in Pennsylvania

In 2006, AFC and the Pennsylvania Treasury Department created the unsecured part of the program, which evolved from a regional pilot that had been started with the West Penn Power Sustainable Energy Fund in 2005.

AFC underwrites, originates, and services unsecured Keystone HELP loans of $1,000 to $15,000 for up to 10 years for high-efficiency heating, air conditioning, insulation, windows, doors, and geothermal improvements. Interest rates, which are subsidized by state and federal funds, currently range from 4.99 percent for loans implementing improvements recommended by a “whole house” audit to 6.99 percent for loans for Energy Star–certified improvements.

ARRA Funds Energy-Efficiency Financing in Over 40 States

Peter J. Krajsa, chairman and CEO of AFC First Financial Corporation (AFC), said that a substantial inflow of federal American Recovery and Reinvestment Act (ARRA) energy and weatherization money is driving states and cities to enter the energy lending field.

The U.S. Department of Energy (DOE) received a total of $36.7 billion under the ARRA to invest in clean energy. Grantees under the ARRA include the private sector, along with states, cities, counties, universities, and U.S. national laboratories.

States, cities, and counties are using ARRA funds under the State Energy Program and Energy Efficiency and Conservation Block Grant Program (EECBG) to provide more than $750 million in energy-efficiency financing for communities in over 40 states, a DOE spokesperson said. Some states are becoming involved in energy lending programs for the first time.*

Under the EECBG, the city of Camden, NJ is receiving $5 million for an energy-efficiency project and is working with the New Jersey Board of Public Utilities and the New Jersey Housing Mortgage Finance Agency.

In another $5 million EECBG award, the city of Lowell, MA is working with the Lowell Development and Financial Corporation, which will be administering a revolving loan fund for the city.

The unsecured loans require a minimum FICO score of 640 (680 for an independently employed homeowner) and a maximum debt-to-income ratio of 50 percent.5

AFC has originated and serviced 5,761 unsecured Keystone HELP loans totaling $36.8 million as of June 30, 2010. According to AFC, these loans had a cumulative default rate of 0.53 percent and a 90-day delinquency rate of 1.12 percent as of June 30.

The largest original loan balances for the unsecured loans are in the metropolitan statistical areas of Pittsburgh, Lancaster, Allentown–Bethlehem–Easton, Harrisburg–Lebanon–Carlisle, and Reading, PA, AFC said.

The Pennsylvania Treasury Department has purchased the $36.8 million in unsecured loans. Paydowns and payoffs reduced the amount of loans outstanding to $25 million as of June 30, 2010. An unsecured loan-loss reserve, which totaled $2.5 million as of July 30, 2010, is capitalized by state and federal funds.

Keith Welks, Pennsylvania deputy treasurer, said that the treasurer’s office initially believed that there was an opportunity to generate a market-based return on investments in residential energy efficiency. The Pennsylvania Treasury Department worked with AFC to expand a regional program by making a $20 million commitment to purchase AFC-originated loans. He added, “We’ve modified the program as we’ve seen what works in the marketplace, what subsidy funds are available, and what quality assurance tests showed. We’ve been very pleased that during very difficult times for consumer loans AFC’s loans have proven to be among the best-performing fixed-income assets in our portfolio.”6

In addition, AFC underwrites and originates secured Keystone HELP loans of $5,000 to $35,000 for whole house improvements7 through the Renovate and Repair Loan Program of the Pennsylvania Housing Finance Agency (PHFA). The secured loans require a minimum FICO score of 6208 and a maximum debt-to-income ratio of 45 percent and are made at up to 120 percent loan-to-value ratios. The PHFA services the loans.

AFC has originated $11 million of secured loans, which have been purchased by the PHFA. These loans are made for qualifying improvements, and many require an energy audit to assess energy usage and recommend energy-efficiency measures. The secured Keystone HELP loans are the only secured energy-efficiency loans that AFC has made in the United States.

Observations About AFC’s Programs

Krajsa said that “the most critical part” of AFC’s energy lending programs is the role of contractors. Improvements are performed by contractors who meet criteria such as a minimum of three years in operation, proper licensing, satisfactory business and personal credit references, and a reputation for a high level of service and workmanship. Contractors certified by the Building Performance Institute can perform whole house improvement projects with lower interest rates.

AFC pays contractors upon receipt of completion certificates from contractors as well as verbal confirmation from homeowners that the work was completed satisfactorily. According to Krajsa, AFC conducts 5 percent quality assurance on its loans.

Krajsa said, “One of the goals of the AFC loan program is to provide incentives to consumers and contractors to incorporate energy audits when possible, but mandating audits before consumers can get loans can be counterproductive to many consumers who need to make immediate, time-sensitive improvements. The most effective programs involve energy expertise, a managed and dedicated contractor network, and point-of-purchase financing; and many lenders, including community banks, do not have the infrastructure to effectively develop a platform to make state-subsidized energy loans. Many community banks, however, have seen an opportunity to buy participations in established energy loan pools as part of their investment portfolio.”

1CT Solar Leasing, LLC, a nonbank subsidiary of US Bancorp, is offering the first ratepayer-funded residential solar leasing program in the U.S. For information, see http://www.ctsolarlease.com/index.php.

2The 21 states are primarily along the eastern coast from Maine to Florida and include some midwestern states.

3These include about 5,000 loans totaling $40 million that AFC sold to Fannie Mae.

4In 2007 and 2008, AFC sold energy loans totaling about $10 million to community banks in Pennsylvania.

5AFC said that the 5,761 loans have a weighted FICO-score average of 751 and that 83 percent of the loan dollar originations have FICO scores of 700 or more. In addition, the 5,761 loans have a weighted debt-to-income ratio of 35 percent.

7Whole house improvements are recommended by an energy audit that predicts a minimum 15 percent to 25 percent energy savings, depending on the home’s energy profile. According to Krajsa, whole house improvements “seal the building envelope” before other energy-conservation steps are taken.

8The minimum credit score is 580 for borrowers in Philadelphia who have household incomes equal to or less than $85,445.